The IRS has been increasing user fees to fund its operations. It recently increased or proposed to increase a wide range of fees including the fees for installment agreements (IAs), offers-in-compromise (OICs), pre-filing agreements (PFAs), private letter rulings (PLRs), and special enrollment examinations (SEE). I raised concerns about these increases in my 2015 and 2017 Annual Reports to Congress.
On Feb. 9, 2018, Congress enacted the Bipartisan Budget Act of 2018 (P.L. 115-123), which addresses concerns about the IRS’s largest fee revenue generator – the IA fee increases. The law prevents the IRS from increasing the IA fee again without legislation. It also requires the IRS to waive or refund the fee for taxpayers with income below 250 percent of the federal poverty level who authorize the IRS to directly debit the IA payments (DDIA) from a bank account or who cannot set up a DDIA (e.g., because they do not have a bank account). This legislation suggests that Congress shares some of my concerns. This blog summarizes our concerns.
One rationale for user fees is that they can prevent everyone from having to pay for nonessential services that only benefit a select few (e.g., special interests). However, the IRS provides fundamental services that are available to everyone. Furthermore, the government is the primary beneficiary of the IRS’s services. They help people pay taxes. If the IRS’s user fees discourage people from paying taxes, everyone else ends up paying more. Thus, IRS user fees may cost the public fisc more – in lost tax revenue and increased enforcement costs – than they bring in.
In addition, Congress recently codified the Taxpayer Bill of Rights (TBOR). Charging taxpayers to exercise their rights creates a pay-to-play system that discourages people from exercising them. When fees erode taxpayer rights, they may reduce trust in government and faith in the legitimacy of the tax system, thereby reducing the revenue that the government collects by reducing voluntary compliance overall. In other words, IRS services benefit us all. Some (e.g., an economist, Senate Report No. 2120, and a Government Accountability Office report) have suggested services that benefit the public (i.e., services with “positive externalities”) should be provided for free or at less than full cost.
How Do IRS Services (With Positive Externalities) Benefit The Government?
When a taxpayer requests a PFA, the IRS may agree to examine and resolve an issue on the return before it is filed. According to the IRS, PFA exams are better (for both the IRS and taxpayers) than post-filing exams because: (1) records and people are more readily available before a return is filed; (2) PFAs foster a cooperative relationship; (3) PFAs are faster; (4) PFAs make any post-filing exam quicker; (5) PFAs improve resource allocation by addressing significant issue(s); and (6) PFAs are less burdensome and costly. Similarly, PLRs allow the IRS to prevent noncompliance by informing taxpayers of how the tax law applies to them (furthering the taxpayer’s rights to be informed and to customer service). Even more importantly, PLRs help educate the public about how experts at the IRS would apply the law in similar cases, even if they do not necessarily represent the IRS’s official position and other taxpayers cannot rely on them.
IAs and OICs also benefit the government. The IRS’s goal for the OIC program is to collect what is reasonably collectible at the least cost and at the earliest possible time. As a condition of the agreement, taxpayers must remain compliant for at least five years. In addition, OICs enable the IRS to avoid wasting resources by trying to collect more in the future from taxpayers who cannot afford to pay without experiencing economic hardship (and thereby also helping the IRS avoid violating taxpayer rights).
Similarly, IAs allow otherwise-delinquent taxpayers to pay over time, sparing the IRS the expense of enforced collection. Thus, IAs and OICs benefit all taxpayers. Any benefit to the applicant is designed as an incentive to encourage tax debtors who cannot pay in full to apply for an IA or OIC so that the government may benefit (e.g., by collecting the reasonable collection potential at a minimal cost to the government and by securing at least five years of voluntary compliance going forward). Thus, it is costly for the IRS to charge for OICs and IAs, and doing so may undermine the IRS’s mission.
In addition, each of these services also furthers taxpayer rights, such as the right to privacy (including the right to expect that enforcement will be “no more intrusive than necessary”), the right to quality service, the right to be informed, the right to finality, and the right to a fair and just tax system (including the right to expect “the tax system to consider facts and circumstances that might affect their … ability to pay”). Thus, charging for them erodes taxpayer rights.
Can We Avoid The Problems With User Fees By Exempting Low Income Taxpayers?
Not really. The IRS sometimes exempts low income taxpayers from fee hikes, and doing so is a good idea, but these exemptions do not solve the problem with IRS user fees. Behavioral science research suggests that even small fees can significantly reduce uptake even among those who can afford it, perhaps by making the uptake decision more complicated. Indeed, a report by the Treasury Inspector General (archived, but discussed in a detailed submission by the ABA Tax Section) found that when Congress first required taxpayers to make a down payment with their OIC applications (which is like a fee in this context), offers submissions declined among those at every income level. Perhaps for this reason, the Treasury Department has suggested that repealingthe requirement would raise revenue.
In addition, tax morale and similar non-monetary factors can drive compliance behavior. Free services could generate goodwill, trust, and a cooperative attitude toward the IRS, which studies (here, here, and here, among others) suggest are correlated with voluntary compliance. Other studies (here, here, and here) suggest that fees can erode non-monetary motives to cooperate (e.g., tax morale). Accordingly, helping people comply (for free) probably reinforces the view that tax compliance is a civic and moral duty, whereas charging for assistance probably reinforces the view that compliance is just a monetary transaction, which is “smart” to undertake only if it makes economic sense.
If Fees Undermine Tax Compliance, Why Has The IRS Been Trying To Raise Them?
The IRS cites both the Independent Offices Appropriation Act of 1952 (IOAA), Office of Management and Budget (OMB) Circular A-25, and budget constraints as the reasons for recent IA and OIC fee hikes.
However, the IOAA does not require the IRS to raise fees. The IOAA generally requires federal agencies to consider establishing user fees for any “service or thing of value provided by the agency,” and to consider charging “full cost” for those that convey “special benefits” to identifiable recipients unless OMB grants a waiver. Circular A-25 says that even “when the public obtains benefits as a necessary consequence of an agency’s provision of special benefits to an identifiable recipient (i.e., the public benefits are not independent of, but merely incidental to, the special benefits), an agency need not allocate any costs to the public.” However, various court decisions (such as Nat’l Cable Television Assn., Inc., Fed. Power Comm’n v. New England Power Co., and Steele), have suggested that the IOAA does not require or even authorize agencies to charge fees for services that primarily benefit the general public (e.g., the cost of regulating an industry) just because we can identify specific people who received a benefit from them. Thus, there is a limit to the services that may be subject to a fee, but its precise outlines are unclear. Various other laws (e.g., 29 U.S.C. 1202a and IRC §§ 6103(P), 7528, 6104, 6108, and 6110(k)) also give the IRS broad discretion to set a “reasonable” fee for certain items without providing advanced notice or considering public comments. In other words, there is no legal requirement for the IRS to raise fees.
It is more likely that budget constraints have been driving the IRS to hike user fees. The IRS has an incentive to push the envelope by interpreting the law to permit or require it to raise fees and impose new ones. Unlike other federal agencies, it is authorized to retain and spend user fee revenue. The IRS generally does not have to use its fee revenue to fund the services that generate the fees. It even has more flexibility in how it spends user fees than in how it spends its appropriation. While the IRS submits its user fee spending plan to the Department of Treasury and OMB for approval, it does not need congressional approval.
How Does The IRS’s Interpretation Of The User Fee Rules Undermine Taxpayer Rights And Result In Arbitrary And Ill-Advised Fee Hikes?
The IRS discussed its interpretation of the IOAA in 2016 when it raised the fee for taxpayers to enter into IAs. In response to comments about how the government benefits from IAs, the IRS responded that “the benefit to the fisc of collecting outstanding taxes is not an additional benefit to the government because the IRS would collect those amounts through other means absent the installment agreement.” The IRS did not provide any data to support this assertion, and did not consider the cost of collecting those taxes through other means. Nor did it address the potential violation of taxpayer rights that could otherwise occur. It explained that “there is no requirement that the agency weigh this public benefit against the specific benefit to the identifiable recipient.”
The IRS’s analysis suggests that if it can identify someone who arguably receives a “special benefit,” then it believes it is required to impose a user fee (or request a waiver from OMB), even if the fee would cost the government more in tax revenue or enforcement costs than it generates, and even if it would violate the Taxpayer Bill of Rights (TBOR).
In response to a comment observing that the IRS is required by law to enter into certain “guaranteed” IAs – a law that supports the taxpayer’s right to privacy by ensuring that enforcement is “no more intrusive than necessary” – the IRS explained that an “issuing agency may charge a fee even though the agency is required to issue such benefit.” In other words, the IRS believes it is permitted (or maybe even required) to charge a fee for access to or application of fundamental taxpayer rights.
Does The IRS At Least Consider Whether Fees Might Reduce Revenue, Increase Costs, Or Erode Taxpayer Rights Protections Before Increasing Them?
In the 2015 Annual Report to Congress, I recommended that IRS avoid fees that increase enforcement costs, reduce voluntary compliance, erode taxpayer rights, or otherwise create difficulties in achieving the IRS’s mission. The IRS agreed to consider these factors in its biennial reviews. However, this change only applies to certain new user fees and it is unclear how the IRS will quantify and evaluate these considerations in practice. Moreover, the IRS has not agreed to include such analysis in its public notices of proposed rulemaking or otherwise subject them to public scrutiny, and it has not done so.
Instead, the IRS has focused solely on how it could re-deploy user fee revenue to fund other IRS activities. For example, when the IRS received a suggestion that it consider whether the proposed SEE fee increase was in the public interest, the IRS’s responsefocused on how it could re-deploy the fee revenue to “other activities that are in the public interest.” Similarly, in 2016, when the IRS proposed increasing the fees for IA and OICs, it’s only justification was that there were “constraints” on IRS resources. Similarly, in its Fiscal Year 2015 biennial review, the IRS proposed to use its discretion to set several fees at levels above its costs: (1) because the cost of providing the services “can vary significantly,” (2) to avoid “raising the fee one year only to lower the next,” or (3) to “reduce the number and frequency” of requests for service – services that promote voluntary compliance.
What Can Be Done To Stop The IRS From Using Ill-Advised Fee Increases To Supplement Its Appropriation?
In the National Taxpayer Advocate 2017 Annual Report to Congress, I recommended legislation (Taxpayer Advocate Service — 2017 Annual Report to Congress and 2017 Annual Report to Congress: Purple Book) that would prevent the IRS from increasing any fee for tax-related services without first asking for and considering public comments concerning whether the service (1) increases government revenue, (2) reduces government expenses, such as enforcement costs, or (3) erodes access to taxpayer rights, such as the right to privacy (including the right to expect that enforcement be “no more intrusive than necessary”) and the right to a fair and just tax system (including the right to expect “the tax system to consider facts and circumstances that might affect their … ability to pay”).
Unless the IRS could reasonably conclude that the proposed fee increase would not cause problems in these areas, it would not be authorized to increase the fee. This analysis might help ensure that the IRS could not justify increasing fees for services to taxpayers on the basis of its own financial situation. Congress has determined that no more IA fee increases can be justified, but the IRS should be doing this type of cost benefit analysis before increasing other fees.
Have a question? Contact Nina Olson and the National Taxpayer Advocate Team.
Your comments are always welcome!